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Guidelines for Purchasing Mutual Funds

Introduction

Investing in mutual funds has become increasingly streamlined and digital, but it requires adherence to specific procedural guidelines. Whether investing ₹500 or ₹50 lakh, every investor must follow the standard investment process mandated by SEBI. This chapter provides a comprehensive guide on the prerequisites, modes of investment, and the critical choice between Direct and Regular plans.

Prerequisite: Know Your Customer (KYC) Compliance

Before making any investment in the securities market, an investor must be KYC compliant. This is a one-time process mandated by the Prevention of Money Laundering Act (PMLA).

The KYC Process

1. Documentation: The investor must submit proof of identity (PAN Card is mandatory) and proof of address (Aadhaar, Passport, Voter ID, or Driving License) along with a passport-sized photograph.

2. Verification: The documents can be verified physically (In-Person Verification or IPV) by a mutual fund distributor or AMC official, or digitally through the e-KYC process using Aadhaar-based OTP authentication.

3. Centralized Registry: Once the KYC is processed by a KRA (KYC Registration Agency) like CAMS or Kfintech, the investor's status is updated in the central database. This allows the investor to invest in any mutual fund scheme across any AMC without repeating the paperwork.

Note

PAN Exempt Investments: Micro-investors investing up to ₹50,000 per year per mutual fund are exempt from the mandatory PAN requirement but must still complete a simplified KYC process using other identity proofs.

Modes of Investment: Direct vs Regular Plans

Every mutual fund scheme offers two distinct plans for investors, which have the same portfolio and fund manager but different expense ratios.

Regular Plan

Definition: These plans are sold through distributors (agents, banks, or financial advisors). The AMC pays a commission to the distributor for facilitating the investment.

Cost Implication: The expense ratio is higher because it includes the distributor's commission.

  • Suitable For: Investors who need guidance, advice, and hand-holding for selecting funds and managing paperwork.
  • Impact: Lower returns compared to Direct plans due to higher costs.

Direct Plan

Definition: These plans are purchased directly from the AMC without any intermediary. No commission is paid to anyone.

Cost Implication: The expense ratio is lower (typically 0.5% to 1.0% lower than Regular plans).

  • Suitable For: Do-it-yourself (DIY) investors who can research and select funds on their own.
  • Impact: Higher returns over the long term due to the compounding effect of lower expenses.

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System of Investment: SIP vs Lumpsum

Systematic Investment Plan (SIP)

SIP allows investors to invest a fixed amount regularly (monthly, weekly, or quarterly) in a mutual fund scheme.

Benefits:

  1. Rupee Cost Averaging: You buy more units when markets are low and fewer units when markets are high, lowering the average cost of acquisition.
  2. Discipline: It instills financial discipline by automating savings.
  3. Convenience: Amount is auto-debited from the bank account.
  4. Accessibility: Start with as little as ₹500 per month.

Lumpsum Investment

Lumpsum involves a one-time bulk investment in a scheme.

Usage:

  • Best suited for liquid funds or debt funds where timing is less critical.
  • For equity funds, lumpsum investment carries "timing risk" (investing right before a market crash).

Important Documents

When purchasing mutual funds, investors encounter several key documents:

1. Key Information Memorandum (KIM)

A summarized version of the offer document that contains essential information like investment objective, risk profile, fund manager details, expense ratio, and historical performance. It is attached to the application form.

2. Scheme Information Document (SID)

A detailed legal document providing comprehensive information about the scheme, including investment strategy, asset allocation pattern, risk factors, fees, and legal rights of investors.

3. Statement of Additional Information (SAI)

A document containing statutory information about the mutual fund house, its sponsors, trustees, and custodians, which is applicable to all schemes of that AMC.

Methods of Transacting

Investors can purchase units through various channels:

  1. Official Website/App of AMC: Create a login and transact directly.
  2. RTA Platforms: Websites/Apps of CAMS (myCAMS) or Kfintech (KfinKart) allow transacting across multiple AMCs.
  3. MF Utilities (MFU): A shared platform by the mutual fund industry for transacting in multiple schemes with a single Common Account Number (CAN).
  4. Online Investment Platforms: Third-party apps like Zerodha Coin, Groww, or Kuvera (mostly offer Direct plans).
  5. Stock Exchange Platforms: BSE Star MF or NSE NMF II platforms utilized by brokers.

Summary

  • KYC is Mandatory: One-time verification of Identity (PAN) and Address is required before investing.
  • Direct vs Regular: Direct plans have lower costs and higher returns as they eliminate distributor commissions; Regular plans include advice/service costs.
  • SIP vs Lumpsum: SIP is preferred for equity to average out costs; Lumpsum is suitable for debt or when market valuations are attractive.
  • Documentation: Investors should read the Key Information Memorandum (KIM) before investing.
  • Channels: Investments can be made via AMC websites, RTA apps, MF Utilities, or third-party platforms.

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